The Zurich Axioms by Max Gunther

Summary and Notes by novelinvestor.com

The Zurich Axioms is a book about managing risk and reward. Twelve Axioms define how
to think about risk and uncertainty in such a way that you’re more likely to be rewarded
than not.

“Everbody wants to win, of course. But not everybody wants to bet, and therein lies a
difference of the greatest magnitude. Many people, probably most, want to win without
betting.”
The idea is to deliberately expose yourself to risk — to bet — in a way that gains are more
likely than losses.
Axiom #1 on Risk: “Worry is not a sickness but a sign of health. If you’re not worried, you
are not risking enough.”
Most people strive for a “sleep well at night” portfolio because it offers security. The
Axioms propose the opposite. Worry is part of an adventurous life, one that takes personal
risks. Put another way, an adventurous life is a rich life. A life avoiding worry is boring or
poor. Managing money is no different. To get rich, you must take risks. The price of risk is
a state of worry.
Frank Henry (author’s father) rule of thumb: only spend half your energy toward job
income, spend the other half on investment/speculation.
“Every occupation has its aches and pains. If you keep bees, you get stung. Me, I get
worried. It’s either that or stay poor. If I’ve got a choice between worried and poor, I’ll take
worried anytime.” — Jesse Livermore
Minor Axiom #1: “Always play for meaningful stakes.”
“Meaningful stakes” does not mean taking a huge risk that a loss would drive you to
bankruptcy. It means taking a big enough risk, with favorable odds, that produces a
significant difference. If the bet is small enough that a loss won’t matter, any gain won’t
matter either. The bet should be one where a loss is enough to worry about while a gain is
financially significant.
J. Paul Getty, after betting his entire fortune ($500 in 1916) on his first oil lease that hit big,
remarked: “Of course, I was lucky. I could have lost. But even if I had, that wouldn’t have
changed my conviction that I was right to take the chance. By taking the chance — a pretty
big chance, I’ll admit — I gave myself the possibility of getting somewhere interesting. The
possibility, the hope, you see. If I’d refused to take the chance, I would not have had the
hope… So it seemed to me I had a lot more to win than lose. If I won, it would be various
kinds of wonderful. If I lost, it would hurt, but not all that much. The right course of action
seemed clear. What would you have done?”
Minor Axiom #2: “Resist the allure of diversification.”
Diversification: “As used in the investment community, it means spreading your money
around. Spreading it thin. Putting it into a lot of little speculations instead of a few big
ones.”
Diversification reduces risk but can be taken to a point that reduces any chance of
significant reward.
3 Flaws: Being too diversified means violating the “always play for meaningful stakes”
axiom, more likely to see any gains and losses offset each other (like running in place),
and rather than too many eggs in one basket, you have too many baskets to watch over
and not enough time to do so.
Peter Lynch called it diworsification: “Don’t diversify just for the sake of diversity. You then
become like a contestant in a supermarket shopping contest, in which the object is to fill
your basket fast. You go home with a lot of expensive junk you don’t really want. In
speculation, you should put your money into ventures that genuinely attract you, and only
those. Never buy something simply because you think you need it to round out a
‘diversified portfolio.'”

Axiom #2 on Greed: “Always take your profit too soon.”

Greed means always wanting more reward than should be expected.
“If you can conquer greed, that one act of self-control will make you a better
speculator than 99 percent of other men and women who are scrambling after
wealth.”
In other words, less greed = better chance at wealth.
“If they wanted less, they’d go home with more.” — Sherlock Feldman, Dunes casino
manager on the power of greed.
Don’t press your luck: “In the course of gambling or speculative play, you will from time to
time enjoy streaks and runs of luck. You will enjoy them so much that you will want to ride
them forever and ever. Undoubtedly you will have the good sense to recognize that they
cannot last forever, but if greed has you in its grip, you will talk yourself into hoping or
believing that they will at least last a long time…and then a bit longer…and then just a little
longer. And so you will ride and ride, and in the end, you and your money will go over the
falls.”
Since most lucky streaks are a possible but rare series of events, go in assuming any
lucky streak will be short and not very profitable. In other words, when the odds are
against you, walking away is the best decision, even in the unlikely event the streak
continues.
“Always bet on the short and modest. Don’t let greed get you. When you have a good
profit, cash out and walk away.”
“That which hurts, teaches.”
Fear of regret will be the biggest thing working against you in following Axiom #2.
Minor Axiom #3: ” Decide in advance what gain you want from a venture, and when you
get it, get out.”
Helps give a specific answer to the all-important question “What is enough?” or When to
sell?

Axiom #3 on Hope: “When the ship starts to sink, don’t pray. Jump.”
Expect things to go wrong from time to time, and have a plan for when it does. That means
expect mistakes, expect bad luck, expect to be wrong about investments, but don’t let any
of it debilitate your ability to invest. When it does happen, learn to cut your losses. To do
that, you must be willing to take a loss.
“You take small losses to protect your self from big ones.”
“In the absence of compelling reasons to think things will get better, sell.”
Three obstacles stop people from cutting their losses early:
Fear of regret: taking the loss, only to watch it recover, and miss out on the recovery.
Recoveries will happen but not very often or quickly enough to wait. Investments gone bad
often have problems that “are slow to develop and slow to go away.”
Too painful: Avoiding the pain of taking a loss, by holding, and hoping, to break even. By
avoiding the pain, you also avoid other opportunities that could get you back to even
sooner. No rule states that you must make your money back the same way you lost it.
Admitting you’re wrong: “Refusing to be wrong is the wrongest response of them all.”
Protecting your ego is a foolish reason to lose a pile of money. Markets humble everyone.
Expect it to happen to you.
Minor Axiom #4: “Accept small losses… Expect to experience several while awaiting a
large gain.”
Small losses “are part of the cost of speculation. They buy you the right to hope for big
gains.”

Axiom #4 on Forecasts: “Human behavior cannot be predicted. Distrust anyone who

claims to know the future, however dimly.”
Why do we listen? Because the easiest and quickest way to get rich is to know what the
market will do tomorrow. Humans have a long history of wanting to know the future.
Why are forecasters dangerous? Because sometimes forecasters guess right. Then
conveniently, we ignore all the times they were wrong.
“It’s easy to a prophet. You make 25 predictions and the ones that come true are the ones
you talk about.” — Theodore Levitt
The basic rule of forecasting: “If you can’t forecast right, forecast often.” In other words,
beware of revisions and re-revisions.
Some events can be predicted like physical events (i.e. sunrise, sunset, the next full
moon), but markets deal with human events driven by behavior, which is unpredictable.
“There are simply too many unknowable variables involved to allow for trustworthy
forecasts of something like the inflation rate. The rate is caused by millions of people
making billions of decisions: workers about wages they want to be paid, bosses about
wages they are willing to pay, consumers about prices they will swallow, everybody about
diffuse feelings of hardship or prosperity, fear or security, discontent or buoyancy. To claim
you can make reliable forecasts about this staggering complexity seems arrogant to the
point of being ridiculous.”
Simply, ignore forecasters!

Axiom #5 on Patterns: “Chaos is not dangerous until it begins to look orderly.”

Everybody wants a formula to get rich, so they look for patterns. Formulas don’t exist.
The illusion of order: Humans are pattern seekers, who often confuse randomness — amid
market chaos — for order. Also, Humans prefer a level of control, something the illusion of
order offers.
Luck plays a bigger role in investment outcomes than most will ever admit.
“A formula that worked last year isn’t necessarily going to work this year, with a different
set of financial circumstances stewing in the pot. And a formula that worked for your
neighbor won’t necessarily work for you, with a different set of random events to contend
with. The fact is, no formula that ignores luck’s dominant role can ever be trusted.”
Minor Axiom #5: “Beware the historian’s trap.”
The historian’s trap is the illusion that history repeats itself exactly. Ex: Long ago, event Y
happened, followed by event Z. So when event Y appears to be happening again,
everybody assumes event Z will happen next.
“It is true that history repeats itself sometimes, but most often it doesn’t, and in any case, it
never does so in a reliable enough way that you can prudently bet money on it.”
“Events rarely happen the way they are expected to happen.”
Minor Axiom #6: “Beware the chartist’s illusion.”
The chartist’s illusion is the belief that future price movements can be found in the charts
of past prices. Charts are a convenient way to use data to exaggerate, deceive, or lie to
others and yourself (see How to Lie with Statistics).
Minor Axiom #7: “Beware the correlation and causality delusions.”
Our pattern seeking often links cause and effect where none exist. When no link exists, we
make it up. The media does this all time with silly headlines claiming why the market did X
yesterday. True or not, the headline provides a sense of order, which we like.
Don’t assume that just because two events happened around the same time, that there is
a link. It could be chance.
Minor Axiom #8: “Beware the gambler’s fallacy.”
The gambler’s fallacy is a belief that random events are somehow magically tilted in your
favor. Yes, winning streaks may happen when gambling on randomness. You can have a
run of luck, but don’t confuse luck with order. And don’t assume a streak will continue (see
Axiom #2).
You can study the market, you might even be able to tilt the odds in your favor, but you’ll
never find a formula that produces a sure thing. Despite better odds, the role of chance
exists because markets are chaotic.

Axiom #6 on Mobility: “Avoiding putting down roots. They impede motion.”

Avoid latching onto the familiar. Familiar things in investing offer comfort, that can lead to
emotional attachments. Emotional attachments get you rooted, which makes it harder to
sell.
Minor Axiom #9: “Do not become trapped in a souring venture because of sentiments like
loyalty or nostalgia.”
Minor Axiom #10: “Never hesitate to abandon a venture if something more attractive
comes into view.”
No investment is too good to ever sell. Every investment has a price where selling makes
sense. It may never reach that price, but the price exists.
Every opportunity must be weighed against existing investments, money going to the more
promising one.

Axiom #7 on Intuition: “A hunch can be trusted if it can be explained.”

A hunch or gut feeling is looked on with scorn, indiscriminate trust or discriminating use.
Rely on the latter. It may be useful, but it won’t always be useful.
A hunch is something you know without knowing how or why you know it. The question to
ask is have you come across enough relevant information to make it plausible?
Minor Axiom #11: “Never confuse a hunch with a hope.”
Be skeptical of hunches that suggest the outcome (you want) will turn out better than you
expect. It sounds a lot like overconfidence.
Axiom #8 on the Occult: “It is unlikely that God’s plan for the universe includes making
you rich.”
Relying on some supernatural power to get you rich will leave you poor.
Minor Axiom #12: “If astrology worked, all astrologers would be rich.”
As the 4th Axiom states, you can’t predict the future. Thinking astrology, tarot, psychics,
superstitions, or other mystical arts somehow can predict or influence future outcomes is
dangerous.
“Anybody can have a lucky hit or two, but the true test of any touted moneymaking
approach is whether it works consistently.”
Minor Axiom #13: “A superstition need not be exorcized. It can be enjoyed, provided it is
kept in its place.”
In other words, have fun with it, enjoy it, but don’t make important finance bets on it.

Axiom #9 on Optimism and Pessimism: “Optimism means expecting the best, but
confidence means knowing how you will handle the worst. Never make a move if you are
merely optimistic.”
Blind optimism gets you in trouble because it ignores the odds, thinking luck will win out. A
healthy sense of pessimism reminds you of the odds, so you can be ready for the worst.
“You can beat the odds once in a while but not consistently. Usually, if the odds say you’ve
got a loser, it’s a loser. The pro, knowing this, and knowing how easily the optimistic sucker
can be persuaded to bet when he shouldn’t, gets rich. The pro doesn’t have optimism.
What he has is confidence. Confidence springs from the constructive use of pessimism…
Seek confidence instead. Confidence comes not from expecting the best, but from
knowing how you will handle the worst.”
Every bet has numerous possible outcomes but we’re drawn to the one that works out
best. That’s the point of betting, right? So optimism, hoping for the best, is a normal state
of mind and it feels better too. But it’s out of control optimism which dooms investors.
Some amount of worry helps keep it under control by thinking about alternate outcomes,
allowing you to prepare if things go wrong.

Axiom #10 on Consensus: “Disregard the majority opinion. It is probably wrong.”

The lesson from Rene Descartes is to doubt but verify — “The trick, he said over and over
again in any number of contexts, is to disregard what everybody tells you until you have
thought it through for yourself. He doubted the truths alleged by self-styled experts, and he
refused even to accept majority opinions. “Scarcely anything has been pronounced by one
[learned person] the contrary of which has not been asserted by another”, he wrote. “And it
would avail nothing to count votes . . . for in the matter of a difficult question, it is more
likely that the truth should have been discovered by few than by many.””
The easy way is to accept the words (opinions) — of experts, gurus, brokers, bankers,
forecasters, it’s a long list — as absolute truth. The hard way, the Descartes way, is to
question, examine, and verify.
“The majority of people believe the ancient clichés to be unarguable truths. In the light of
this, it may be instructive to note that the majority of people aren’t rich.”
Minor Axiom #14: “Never follow speculative fads. Often, the best time to buy something is
when nobody else wants it.”
Buy low, sell high is a simple, but hard to follow concept, because it goes against popular
opinion.
“As a general rule, the price of a stock – or any other fluid priced speculative entity – falls
when substantial numbers of people come to believe it isn’t worth buying. The more
unappetizing they find it, the lower the price drops. Hence the great paradox that isn’t
taught in seventh grade: the time to buy is precisely when the majority of people are
saying, “Don’t!” And the obverse is true when it comes time to sell. The price of a
speculative entity rises when large numbers of buyers are clamoring for it. When
everybody else is screaming, “Gimme!’ you should be standing quietly on the other side of
the counter saying, “Gladly.””
Being outside the majority can create anxiety and doubt, making it easier to cave to
pressure, even when the majority is wrong. Because investing is largely opinion based
(lacking hard facts on an unknowable future), it’s harder to verify, making us more
susceptible to doubt.
Of course, always going against the crowd is the wrong lesson. Sometimes the majority is
right, but not always.
“The trouble with contrarianism is that it starts with a good idea and then hardens it into a
grandiose illusion of order. It is true that the best time to buy something may be when
nobody else wants it. But to buy automatically and unthinkingly for that single reason – to
buy solely because the entity is unwanted – seems almost as silly as to bet unthinkingly
with the herd.”

Axiom #11 on Stubbornness: “If it doesn’t pay off the first time, forget it.”
“If at first you don’t succeed, try, try again” is a nice idiom but pouring good money after
bad into a bad investment out of a stubborn refusal to quit is stupid. It’s an emotional
response driven by a need to break even or be proven right.
Minor Axiom #15: “Never try to save a bad investment by averaging down.”
Averaging down may lower your cost basis, but a lower cost basis in a bad investment is
still a loss, likely made worse. If you wouldn’t put new money into an investment — having
never owned it — at the fallen price, then don’t average down. Accept the loss. Sell. Make
it back in another opportunity.

Axiom #12 on Planning: “Long-range plans engender the dangerous belief that the future
is under control. It is important never to take your own long-range plans, or other people’s,
seriously.”
Plans have a way of adding order to chaos by ignoring the unexpected. The further you
look out, the more unknowable things become.
“What all these hopeful planners either fail to recognize or choose to ignore is that the
money world is only in a limited sense like a tree growing. It is ridiculous to think you can
see the world’s future simply by looking at trends in evidence today. Some of those trends
will undoubtedly peter out or reverse themselves in the next twenty years. Nobody knows
which ones. Whole new trends will spring into existence, factors that nobody today even
dreams of. Unknowable events will take us by surprise. Booms and busts, upheavals,
wars, crashes and collapses: who knows what we have ahead of us?… The only kind of
preparation I can make for the next century, therefore, is to continue studying the market,
to go on learning and improving… Resolve to learn all you can learn about the kinds of
speculation that attract you, but don’t ever lose sight of the probability – no, let’s say the
certainty – that your speculative media and the circumstances affecting them are going to
change in ways you cannot now imagine.”
Minor Axiom #16: “Shun long-term investments.”
The advantage of long-term investments is it removes tough decisions. There’s one: buy it
and wait. Except the future is not guaranteed to reflect the past. It’s unknowable. Expect
the unexpected. Expect things to go wrong. Be nimble enough, when things do go wrong,
to avoid financial catastrophe.
“All you can know about the future is that it will get here when it gets here. You cannot see
its shape, but at least you can prepare yourself to react to its opportunities and hazards.
There is no sense in just standing there and letting it roll over you.”